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Commodities 2009

    The Financial Times proposes to publish this FT Report on November 25, 2009.

    (Advertising copy deadline: November 9, 2009).

    We plan to include the following features (please note that this list is provisional):

    1. Introduction After years of rapid price appreciation, the commodities “super-cycle” came to an

    abrupt stop late last year after the collapse of Lehman Brothers and the start of the

    financial and economic crisis. The price of oil, the bellwether of the commodities

    sector, crashed to less than $35 a barrel early this year after hitting an all-time

    high of almost $150 a barrel in mid-2008. The Reuters-Jefferies CRB index, a

    basket of raw materials from copper to wheat, plunged to its lowest since 2002

    and in October 2008 suffered its largest monthly drop since it started life in 1956.

    The severity of the crisis surprised natural resources companies' executives,

    commodity traders and investment bankers alike. After all, the commodities boom

    of 2003-08 was the most notable for a century in its magnitude, length and the

    number of commodities whose prices it lifted. Companies reacted quickly, cutting

    production, laying off employees and canceling expansion projects. For investors,

    the price plunge was the first serious test for commodities as a long-term

    investment asset class. Ten years ago commodities were mostly an exotic corner

    for sophisticated investors, but starting in 1999, and particularly since 2003, raw

    materials transformed into a proper asset class. The novelty of the asset class

    meant that the price plunge was the first significant drop in returns for many

    investors. The sudden plunge asks a fundamental question: was this just a

    temporary blip within an upward trend, with prices likely to rebound in the

    medium term, or is it the conclusion of another commodities cycle of boom and

    bust, with a period of relatively stable prices coming ahead? Although some,

    including the World Bank, said it was the end of the super-cycle, others said that

    the main drivers of what many have come to see as a commodities super-cycle

    such as strong pent-up demand in emerging countries and supply constraints

    caused by a lack of investment over the past 20 years, along with the rise in

    resource nationalism were intact. For the former camp, the drop was a mere

    “reset” of the boom. A year later, and the super-cycle backers appear firmly back

    on the driving seat, with commodities prices rebounding sharply as the economy

    recovers and investors back pouring money into the asset class.

    2. Regulation

    Ever since investors started to pill up on commodities and the price of raw materials spiked, investors became wary. Although almost all the studies, from the International Monetary Fund to the UK Treasury, said that investors were mere followers, some politicians, particularly in Washington, blamed speculators for the rise in prices. The price drop did nothing to quell those views while the arrival of President Barack Obama’s Democratic administration gave regulatory review a new impetus. The Commodity Futures Trading Commission, the US regulator, have since then started to consider caps in the number of commodities’ contracts that investors could hold. The watchdog is also considering whether eliminate some exceptions that allows big banks such as Goldman Sachs or Morgan Stanley to dominate commodities dealing. The regulatory clampdown is so far focused in the US. Bankers and traders warn that investors are likely to move to more benign jurisdictions. In London, for example, the UK Financial Services Authority opposes further regulation. At the same time, some investors are also looking for ways to bypass new regulation, investing for example directly into physical commodities, rather than the CFTC’s supervised derivatives.

    3. Regulation

    This piece examines the regulatory proposals and their potential impact.

    4. Commodities Indices

    Investors seeking exposure to commodities have relied for the most part in passive, long-only indices basket of raw materials assigning billions of dollars to funds

    that track them. The most popular among the indices is the S&P GSCI, with more than $60b tracking it. The DJ-UBS and the Reuters-Jefferies CRB are also popular. The indices have, however, significant flaws. Among them, the fact that most expose investors to a significant cost in carrying their positions and, in some cases, a disproportionate significance to energy. In spite of their problems, the indices remain the most popular way to seek exposure to commodities. The piece will examine the new trends emerging in commodities indices and how banks are designing proprietary indices to minimize the investment problems creates by the popular benchmarks.

    5. Exchange Traded Funds

    After indices, the second most popular way to seek exposure to commodities is via exchange traded funds. ETFs become popular as a way to invest in physical gold, but since them have expanded to track the price of oil, natural gas and other raw materials. As ETF are, in effect, not different to shares of companies traded in the stock market, investors find extremely easy to invest in them. For some investors, it is a way to bypass bans on investing in futures, while others like the ease to buy and sell. The threat of regulation could make physically backed ETF even more popular, with banks working on new products backed by actual cargos of copper or aluminium, This piece is an overview of the sector, highlighting the latest trends and the major providers of ETF products in London and New York.

    6. Commodities Hedge Funds

    For years, commodities were associated with risky investments through hedge funds. Although the asset class has broadened, many investors continue to seek exposure to raw materials via hedge funds, profiting from active trading. Between 2003 and mid-2008, with prices moving constantly higher, the advantage of active trading was somewhat overshadow by constant and rising returns, but the plunge in prices since late 2008 has rediscovered the hedge funds’ advantages. The commodities crash had, nonetheless, also victims among the hedge funds, including Ospraie. This piece is an overview of the sector, highlighting the largest players, including specialized funds such as Touradji or generalists, including Tudor; what went wrong in previous collapses, such as the case of Amaranth, and the emerging boutique commodities hedge funds, such as Armajaro, Galena or BlueGold.

    7. Commodities Exchanges

    The financial crisis has hit commodities prices, but the exchanges where raw materials trade could end benefiting. As regulators and investors worry about counterparty risks, more trading previously conducted on the over the counter market is now moving inside the exchanges or it is been cleared. The markets without an exchange, such as the Singapore’s energy hub have suffered. This

    piece examines the role of the commodities exchanges and their future. The threat of regulation could hurt trading volumes in Chicago and New York, to benefit London and others. At the same time, emerging countries are racing to create new exchanges, from Addis Ababa in Ethiopia to Hong Kong. The piece also reviews the rising volumes of OTC trading moving into clearing houses.

    8. Energy After falling from an all-time of almost $150 a barrel in mid-2008 to as low as $32 a barrel early this year, oil prices have rebounded to $70 a barrel on the back of improving energy demand and the Opec oil cartel’s production cuts. Forecasters are split about the market direction, but most believe that prices are unlikely to fall back and many see a return of the $100 level in the no distant future. At the same time, US natural gas prices have fallen to the lowest level in seven years and sharply rising production point to low prices for a time, more forecasters say. This piece will review the outlook for energy prices, from crude oil and gasoline to natural gas and coal, and their impact in investment decisions.

    9. Base Metals

    Base metals felt the brunt of the economic crisis as industrial consumers cut purchases and decided to run down their stocks. But at difference of previous cycles, mine output was cut quickly and the industry avoided, for the most part, a significant build up in inventories. Since early this year, restocking by consumers and governments, particularly in China, and production constrains, particularly in copper, but also in lead, have pulled up prices. The London Metal Exchange’s

    index, a basket of base metals, have surged more than 50 per cent so far this year. This piece will review the outlook for base metals prices and their impact in investment decisions.

    10. Precious Metals

    The commodities sector suffered amid the financial and economic crisis, but a

    small corner of the asset class enjoyed a boom: precious metals. Amid plunging

    equity markets, investors rushed to the perceived safety of gold and to a lesser

    extent silver pushing the yellow precious metal above $1,000 a troy ounce, near

    a record. Investor bought gold in all its forms, but for the first time in a long

    period, they bought en masse physical bars, wafers and coins. Supply also helped

    gold, as central banks cut their sales and mines produces less than expected.

    Platinum and palladium, on the other hand, suffered as demand from the auto

    industry, where they are used to clean up tailpipe exhaust, collapsed. As the

    economy recovers, gold and silver are benefiting from investors’ concerns about

    the central bank’s ability to exit from the current expansionary policies without

    triggering a rebound in inflation. This piece will review the outlook for base

    metals prices and their impact in investment decisions.

    11. Agriculture The old farming proverb says the best fertilizer is high prices. It proved right again. The high prices of the food crisis of late 2007 and early 2008 brought a large

    supply response from farmers, helped by favourable weather. Wheat, corn and

    soyabean production expanded, halving prices, triggering losses to many investors

    betting on sustained high prices. In spite of the drop, analysts say the food system continues to be vulnerable to another spike because rising demand from

    developing countries and the biofuel sector, low inventories and the long-term

    threat of climate change. This piece will review the outlook for agricultural prices and their impact in investment decisions.

    12. Soft Commodities & Exotic Commodities

    Investors seeking exposure to commodities are not stopping in the traditional

    division of energy, base metals, precious metals and agriculture. Some soft and

    exotic commodities, from sugar and uranium to freight rates and iron ore, are

    sought. Although returns have been strong in some cases, soft commodities and

    other exotic assets are notoriously volatile, forcing investors to actively trade their positions. Liquidity is also a problem in a number of those commodities. This

    piece will review the outlook for soft commodities, different exotic commodities

    that are attracting investors interest, such as iron ore, cobalt, uranium or farmland, and the outlook impact in investment decisions.

    13. Invited guest column

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